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Publicly Available Published by De Gruyter Oldenbourg September 4, 2017

Private club or public marketplace?

The organisation of stock exchanges from a property rights perspective: London and Berlin in comparison, 1860 to 1914

Michael Buchner

Abstract:

This paper contributes to the literature on the organisation and governance of stock exchanges by taking the perspective of property rights theory. Focusing on the examples of the London and Berlin stock exchanges, which followed quite opposite paths of development during the second half of the 19th century, the paper provides three major results. First, it shows that historical stock exchanges were much more characterised by institutional variety and evolution than recent economic accounts tend to suggest. Secondly, drawing on a theoretical model developed by Oliver Hart and John Moore, the paper argues that differences in membership structure as well as in the competitive environment constituted the main driving forces behind organisational change both in London and in Berlin. Finally, it is claimed that future research should take the public dimension of Continental bourses more strongly into account, which, for example, has important implications for the question of whether stock exchanges established property rights in prices or not.

Introduction

In early 2016, Deutsche Börse AG and the London Stock Exchange (LSE) Group announced their renewed attempts to merge both financial exchanges into a single enterprise which would then constitute in many respects the world's leading provider of financial trading services.[1] One year later, however, the European Commission – once again – stopped these plans as the new company would have gained too much monopoly power over the common European financial market, particularly with regard to the business of clearing.[2] This recent episode thus perfectly illustrates that stock exchanges today no longer constitute only local trading platforms where merchants gather regularly to receive new information and enter into bargains with each other. In contrast, financial exchanges are themselves now complex joint-stock companies, which provide a huge variety of different financial services – such as listing, price dissemination, clearing, etc. – and whose own shares are often equally listed on multiple exchanges. This is the result of dramatic changes which have taken place in the constitutional design of most stock exchanges worldwide during the last two decades and which are usually summarised under the heading of «demutualisation». The notion refers to the very transformation of exchanges traditionally organised as cooperatives into joint-stock corporations, often with their own shares being listed.[3]

Economic theory has also responded to this development. Thus, nowadays, most economists no longer perceive exchanges as «markets» – as did their predecessors in the 19th century – but as «firms» that create, i. e. «produce», markets in financial services.[4] This shift in perception of what an exchange actually is was fostered by the rise of New Institutional Economics (NIE) in the last few decades.[5] According to this paradigm, markets do not emerge ex nihilo when there is only sufficient supply and demand. On the contrary, given the asymmetric access to information, the inability to write complete contracts and similar frictions characterising negotiations between economic agents, the very existence of market exchange needs to be explained in the first place.[6] On financial markets, where basically expectations about future developments are traded, many of these problems tend to be even more aggravated. Therefore, the actual functioning of financial markets is the result of carefully organised financial exchanges which set the rules for market participants. This, however, leads to the question of how exactly a financial exchange should be organised. Apparently, many stock exchanges recently felt pressed to fundamentally change their overall organisational design. Early on, Oliver Hart and John Moore, one of the founding fathers of property rights theory, developed a formal model that explains this very phenomenon and provides a framework for asking what organisational structure an exchange should opt for.[7]

Conversely, many recent economic accounts, like the one provided by Hart and Moore, often underestimate the complexity of property rights structures in historical stock exchanges, supposing that prior to the «wave of demutualisation» starting in the 1990s most exchanges have been static organisations vested with monopoly power for centuries, which, in addition, was often secured by State authority. This paper thus contributes to the discussion by shedding some light on the historical distribution and the evolution of property rights in two of the most important stock exchanges of the pre-1914 world. While we can already draw on quite detailed knowledge about the evolution of the LSE's organisational structure,[8] the Berlin case has been rather neglected by historical research so far. This is all the more surprising given Berlin's fast rise to becoming a financial centre of worldwide reach during the second half of the 19th century.[9] Certainly, the general lack of interest in stock exchanges which, for a long time, has predominated historiography on the German financial system must be attributed, in large part, to a traditional preoccupation with Germany's famous universal banks going back to Alexander Gerschenkron's seminal contribution.[10] The main implicit assumption prevailing in this literature was that a bank-based system would almost naturally exclude the existence of thriving financial markets. In recent years, however, important quantitative research has been carried out which proves the overall importance of German securities markets in the pre-1914 period.[11] In particular, Berlin became the leading hub for raising capital for corporate enterprises in Imperial Germany and provided a well-developed stock market which, in many ways, could even compete with its London counterpart. With regard to standard efficiency measures, for example, Berlin obviously did not lag behind the then leading financial centre.[12] Nevertheless, we are still lacking a detailed account on the working of the Berlin Bourse as an organisation. So, recent studies almost exclusively concentrate on the Berlin securities market, but not on the stock exchange as the very provider of this market.[13] It is this latter field of research, however, to which this article contributes. Thus, as a first and principal contribution to the literature, we offer the first analysis of the Berlin Bourse's organisational structure and its evolution up to the outbreak of the First World War drawing on archival evidence.[14] In this way, we complement existing accounts which exclusively rely on published sources and concentrate on the formal regulatory framework of the stock market. Conversely, this study focuses on the actual functioning of stock exchanges and on the complex relationships between actors involved in securities trading.

While the literature on both financial exchanges obviously is unbalanced, the comparison between Berlin and London provides new insights on the history of both places. In particular, it picks up the long-standing debate about the peculiar features of bank and market oriented financial systems that started with Gerschenkron's work. As it turns out, the Berlin Bourse and the LSE followed rather opposing paths of development with regard to their property rights structures, although for many contemporary observers in Germany the LSE obviously constituted the benchmark model which Berlin ought to have followed.[15] In order to explain the diverging paths taken by both exchanges, we rely on the Hart and Moore model mentioned above. While the model was deliberately designed to analyse a completely different time period in stock exchange history, it proves to be a very convenient narrative to frame the history of the Berlin and London stock exchanges throughout the 19th century. Hart and Moore identify heterogeneity in membership and the intensity of competition that an exchange has to face as two crucial explanatory variables for a stock exchange's overall organisational design. Our empirical analysis largely corroborates these theoretical arguments, showing in particular that stock exchange membership was indeed much more heterogeneous in Berlin than in London. In addition, both exchanges were also situated in very different competitive environments. Both facts then created demand for two different kinds of institutional solutions. Despite its great convenience, however, the Hart and Moore model – as well as similar models focusing exclusively on the Anglo-Saxon experience – cannot explain the complete picture of Berlin's and London's respective stock exchange histories. While the LSE's constitution corresponded to a private club, typical for the City of London, Continental bourses, of which Berlin is just a prominent example, were characterised by a much stronger public dimension. Moreover, Common and Civil Law respectively attributed quite different roles to stock exchanges. The paper illustrates this public-private divide between both exchanges by highlighting its far reaching implications for property rights in prices. We argue that due to the different constitutions of both exchanges, prices were considered a private good in London whereas they were regarded as a public good in Berlin. Future research on the financial systems debate should therefore take this crucial dimension into consideration, which has been unexplored up to now.

The rest of the paper proceeds as follows: We first discuss the formal theoretical model developed by Hart and Moore, which will then guide the consequent empirical analysis. After giving an overview on the evolution of property rights structures in both exchanges, the paper then discusses, following the model, the two explanatory variables in detail: membership and competition. In the following chapter, we leave the Hart and Moore framework behind and take a much closer look at property rights in exchanges, focusing on the process of price dissemination. The last section finally concludes.

Theoretical framework

Economic theory differentiates between certain ideal types of stock exchange organisation.[16] First and foremost, a stock exchange can be organised as a cooperative strictly belonging to its members, which is also considered as having been the prevailing traditional form throughout most of stock exchange history. Such an exchange often limits access to trading facilities to its members only but it can also decide to admit «outsiders» to the trading floor. In addition, a cooperatively organised exchange can either be run as a for-profit or as a non-profit enterprise. Apart from that, a stock exchange might also be owned by an outsider who may not be a member of the trading community. This is what happened to most exchanges at the end of the 20th century. These privately owned exchanges are however always run as for-profit companies, since the owners' income mainly derives from the dividends the exchange is able to distribute. Consequently, these exchanges are very often transformed into joint-stock companies with their shares frequently being listed on different exchanges. Finally, stock exchanges can also be State-owned, with varying degrees of public intervention into securities trading being possible.

While empirical literature largely agrees on the variety of organisational types basically existing, there are only very few formal models that try to explain which form constitutes the most efficient solution to an exchange's institutional particularities. Oliver Hart and John Moore tried to fill this gap in literature with their model, which was developed when the process of demutualisation described above gained momentum.[17] In essence, the model applies the authors' general theory of incomplete contracts, developed earlier in a series of seminal papers,[18] to the design of financial exchanges by opposing two ideal organisational forms. In a «members' cooperative», it is the members who own and control all the exchange's assets and decisions are taken on a democratic basis, with each member having one vote. «Outside ownership», instead, means that an external investor, whose only interest consists in maximising his profits, owns the exchange and exerts control. Both these types thus represent the extremes on an organisational spectrum running from a complete overlap between members and owners on the one hand, to strict separation between ownership and membership on the other. In a simple pricing model, the authors then demonstrate that with an increase in heterogeneity among members, outside ownership becomes more and more efficient compared to the cooperative form. For that purpose, it is supposed that exchanges can choose from a set of different investment options, with each project corresponding to the needs of a particular group of members. As a cooperative decides by democratic vote, it can reach the first best solution if, and only if, preferences among members are equally distributed. Then, according to the median voter theorem, the preferences of the median voter, who defines the outcome of the vote, also correspond to the preferences of the average member. An outside owner, instead, will not consider average preferences but rather opt for the investment project that matches the needs of the group of members with the highest willingness to pay. This only constitutes a second best solution. When the distribution of preferences becomes more skewed, however, the relative efficiency of outside ownership steadily increases because the median voter's preferences deviate further and further from the average. This is why a switch in a financial exchange's organisational structure from the cooperative form to outside ownership can indeed be an efficient response to an increasingly heterogeneous membership.

In a second step, the authors also show that the same result holds true when competition between different exchanges becomes more intense. The basic idea behind this conclusion is the following: as long as a financial exchange enjoys a trading monopoly, meaning that there is no alternative trading venue where buyers and sellers of securities can match their needs, an outside owner can demand nearly any price he wishes for using his exchange. When competition between different exchanges is introduced, however, owners will not charge higher fees than competing exchanges. Otherwise, professional traders would simply vote with their feet and join an alternative exchange. Thus, competition among stock exchanges owned by outsiders will reduce costs for the exchanges' customers, i. e. the traders. Hence, outside ownership becomes more and more efficient compared to a cooperative exchange, whose members cannot leave. On this particular point, Hart and Moore's line of argument is somewhat flawed, however. One weakness of the argument is the authors' assumption that members of a cooperative exchange, or a subset of them, cannot leave the joint enterprise or decide to found an alternative venue. On the contrary, it seems perfectly clear that costs for leaving a members' cooperative are much higher than the costs for quitting an exchange with outside ownership, as members also have ownership stakes in the company. This, in turn, might indeed restrict members' tendency to leave.

In sum, Hart and Moore come to very clear-cut conclusions. If a stock exchange's members form a very homogeneous group, the cooperative form will constitute the first best solution. As membership becomes more heterogeneous and / or competition among exchanges becomes more intense, outside ownership becomes the more efficient option. At some point in time, a shift in the organisational form of an exchange might be an efficient institutional response to changing circumstances. This is exactly what happened to many exchanges during the process of demutualisation.

The evolution and distribution of property rights in London and Berlin

If demutualisation first and foremost involves separation of ownership and membership of an exchange,[19] then the LSE has been «demutualised» long before the very concept was even born. Since the LSE's foundation in 1801, ownership and membership have traditionally been separated. The capital of 20,000 Pound sterling to erect the new building at Capel Court was raised by 400 shares of 50 Pound sterling each where no single proprietor should hold more than four.[20] These shares were also marketable, with their market price reflecting prospects of the stock exchange enterprise, but they were not listed on any exchange. However, despite striking similarities the LSE was not founded as a joint-stock company which, at that time, would only have been possible with explicit consent by State authorities. The LSE's constitution rather corresponded to that of a trust, as is characteristic under Common Law.[21] Whereas a group of individuals could not own property as a group, i. e. as a legal person, they could instead entrust a group of people, the «trustees», to hold and manage property for them. The proprietors of the LSE thus elected a committee of nine «Trustees and Managers» (TaM) which represented their interests and which was particularly responsible for managing the exchange's facilities. It is interesting to note, however, that when a Royal Commission was appointed in the late 1870s to investigate the LSE's constitution and trading practices, this Commission proposed to incorporate the exchange enterprise.[22] Yet, the members of the stock exchange largely rejected this proposal.

As a trading venue, in turn, this new stock exchange was turned into what was then called a «subscription room».[23] Since then, traders who wanted to enter the LSE's trading floor were forced to apply for membership and, if they were admitted, to pay an annual subscription fee. The actual amount of these fees was decided by the TaM and was used to generate annual dividends for the proprietors of the LSE who, in this way, regained their expenses made for erecting the building. Membership was strictly limited to two main groups of traders: brokers, who executed their outside clients' orders, and «jobbers» or «dealers», who were only allowed to trade with brokers and who were supposed to be prepared to «make a market» in particular securities. Each of these two groups of members had their particular source of income, with brokers demanding commissions from their customers and jobbers earning the so called «spread of the market» by trying to sell their securities at a higher price than they themselves had bought them. Competition among brokers and jobbers respectively should then prevent any one group from obtaining monopoly power. Brokers and jobbers together were represented by the «Committee for General Purposes» (CGP), which was elected annually by the members of the exchange and whose principal task consisted in putting up the rules and regulations for daily trading.

The LSE's constitution, as a consequence, established a principle of «dual control». The TaM were in charge of the financial administration of the exchange enterprise while the CGP fulfilled the tasks of a supervisory body which guaranteed that bargains among members corresponded to the rules and regulations of the LSE. Neither committee, however, should interfere in the responsibilities of the other. Yet, over the course of the century, dual control proved to be a continuous source of conflict, although hard to overcome due to path dependencies. Members always blamed the TaM for demanding extortionate fees only in order to maximise proprietors' profits; and indeed, membership fees did rise significantly during the second half of the 19th century.[24] The managers, instead, would always refer to the huge expenses necessary to accommodate an ever growing group of traders. In fact, since the middle of the century, the stock exchange building was enlarged several times in order to provide enough space for the fast increasing number of members. At the same time, however, proprietors did not want to restrict membership as more members also generated higher income.

In the 1860s and 70s, when the lack of space became ever more pressing, disputes between members and proprietors intensified. Finally, both sides could agree on passing a renewed deed of settlement in 1875.[25] This meant that the number of shares was augmented to 4,000 and, at the same time, it was decided that, from then on, every new proprietor also had to be a member of the LSE and no member should own more than ten shares. These provisions should guarantee for an increasing overlap between members and owners. For this reason, the new treaty is regarded as a decisive step towards stronger vertical integration of the group of traders into the stock exchange enterprise.[26] At the beginning of the 1880s, the number of shares was even further increased to 20,000 as the passing over of shares only made little progress in practice. A final and crucial step was undertaken in 1905 when a resolution was passed where not only must every proprietor be a member of the exchange but, more importantly, every new member must equally possess at least one share. At the same time, the total number of members was limited, as new members were now required to purchase so called «nominations» from retiring members.[27]

Unfortunately, we do not have a similarly detailed account on the organisational history of the Berlin Bourse. Nevertheless, existing material allows for the retracing of its basic features. So, in Berlin, it was the merchants' corporation (Korporation der Kaufmannschaft), the central representation of the city's commercial elite founded in 1820, who traditionally owned the stock exchange building and who was in charge of its financial administration. At the same time, though there was formal surveillance by the Prussian State, the merchants' corporation, whose members mainly used the stock exchange's facilities, also supervised daily business. Both tasks were carried out by the so called committee of elders (Ältesten-Kollegium), which also represented Berlin's commercial elite in public affairs due to the semi-public character of the corporation. Hence, the elders acted as managers of the stock exchange enterprise and also as representatives and supervisory body of the community of traders. They were elected by the members of the merchants' corporation with each member having one equal vote. Consequently, the ownership of the exchange and the self-government of traders were clearly integrated from the beginning. Any form of dual control, like in London, did not exist.

Like the Berlin Bourse, most German exchanges constituted semi-public organisations, which were under State authority, but, in practice, were owned and governed by local business communities, often chambers of commerce. In addition, operating the local exchange by providing necessary infrastructure and supervising market activities was just one of several official functions that these bodies had to fulfil. Nevertheless, it should also be noted that German commercial law did not in a strict sense exclude a priori the possibility of a private owner running a financial exchange. On the contrary, it was explicitly stated that an exchange could either be established by an individual person or by a legal entity, the latter comprising not only public but also private corporations like joint-stock enterprises.[28] Such a private owner, however, would always have needed permission of State authorities and, in reality, there was no stock exchange in Germany which would have been comparable to their Anglo-Saxon counterparts, which basically corresponded to private clubs.[29]

As long as the facilities of the Berlin stock exchange were almost exclusively used by the members of the merchants' corporation, this integrated form of organisation seems to have perfectly fitted all participants' needs. With the massive expansion of securities trading starting in the 1860s, however, there was an ever increasing number of non-members frequenting the Berlin Bourse. This was possible because the Berlin stock exchange – like most other German exchanges – was more or less open to the public. Every merchant, whether he was a member of the corporation or not, could thus enter the stock exchange building and carry out his business there – as long as he paid for an entrance ticket and was currently not in default.[30] Moreover, with the introduction of the new Commercial Code in 1861, merchants no longer had to become members of the corporation in order to enjoy what was then called «commercial rights», i. e. the capacity to act as a merchant.[31] But all these new non-members who were now visiting the exchange did not have any voting rights. Thus, they could not influence the composition of the governing board who, in turn, could exert quite strong power over them, with exclusion from the exchange as the ultimate penalty. On the other hand, there had always been a significant number of merchants among members of the corporation who were not using the exchange's facilities, but, nevertheless, had to pay for them, according to the corporation's statute.

Since the late 1870s, severe conflicts of interest have arisen out of the mixed character of the Berlin merchants' corporation, being a voluntary association on the one hand and being also supposed to represent the general interests of all businessmen and commercial classes on the other.[32] However, from the beginning of its activities, the committee of elders put great emphasis on the management of the stock exchange. Indeed, bankers and financiers clearly dominated among the members of the corporation in general and among the elders in particular. Thus, for example, 49 out of 124 members who were elected in the committee of elders between 1870 and 1920 were bankers.[33] Consequently, those Berlin merchants who did not frequent the bourse increasingly blamed the elders for too narrowly focusing on the interests of the stock market and tried, instead, to found their own representative body. These ambitions gained momentum when in the 1890s the elders came into conflict with the Prussian Ministry of Commerce and Trade due to their opposition to the Stock Exchange Act of 1896, which heavily interfered in securities trading. Finally, in 1902 the Ministry decided to found a new chamber of commerce which would represent the whole of Berlin's industry and commerce and which, in addition, would also be responsible for the supervision of the stock market. The merchants' corporation, however, continued to exist and, consequently, also continued to own and manage the stock exchange's facilities as well as to set up entrance fees. All in all, this resulted in the separation of ownership, administration and membership in Berlin at the very moment when in London one tried to overcome this phenomenon.

Empirical evidence on membership structures

Following the Hart and Moore model, a crucial explanation for these diverging paths taken by the exchanges in London and Berlin can be found in their respective membership structures. Again, the London story is already well known. Although both groups did overlap, there was always a large portion of members who did not possess any shares of the stock exchange (cf. Figure 1). When the Deed of Settlement was altered in 1876, the number of proprietors nearly doubled from 268 to 502. However, there were already more than 2,000 members at that time. Members and owners only began to converge when membership was restricted more seriously after 1905. In 1913 almost half of 4,855 members were also proprietors of the exchange (2,366). Membership structure itself, however, did not change significantly. Although it seems that after the turn of the century jobbers were in a slight majority, whereas brokers had dominated in number until then, the ratio between both groups was rather balanced.[34] But what is even more, there was no fundamental conflict of interest among members themselves but rather between existing and potential future members. So, members always supported limiting membership as they feared that their number might increase faster than the overall trading volume. Proprietors, instead, were keen on raising membership figures in order to make their income rise.

Figure 1:

Members and Proprietors of the London Stock Exchange, 1867 to 1913.

Source: Minutes of the Trustees and Managers of the London Stock Exchange, in: London Metropolitan Archives (hereafter LMA), CLC/B/004/B/03/MS19297; Kynaston, London Stock Exchange; Michie, London Stock Exchange (cf. n. 8).

Of course, members of the LSE could differ greatly in terms of wealth and social status. Nevertheless, they were all part of a single, well distinguished professional group whose only task consisted of matching buy and sell orders of clients who wanted to trade in securities. Moreover, professional homogeneity was fostered by the rules and regulations of the London Stock Exchange, which prohibited members from carrying out any further professional activity, even if it belonged to the realm of finance. Given this homogeneous membership structure, the traditional separation between ownership and membership prevailing in London was a rather inefficient organisational solution. While many authors argue that outside ownership allowed for a constant influx of new members, which was fostering competition and hence innovation among existing members,[35] it cannot be denied that dual control also constituted a permanent source of conflict.[36] Thus, we have to ask why this specific form of organisation was adopted in the first place. Given the dimensions which professional securities trading had already reached in London at the beginning of the 19th century, it seems very plausible to assume that it was only the richest traders who could afford to erect an exchange building for their own. Yet, they also had to admit the rest of the traders if they wanted to prevent them from trading heavily outside or form an alternative exchange.[37] Therefore, by levying subscription fees, the original proprietors tried to make their investment in stock exchange infrastructure pay off in the long run. As time went on, however, dual control was increasingly perceived as being a crucial problem and, hence, steps were taken to achieve stronger vertical integration.

The picture is very different for Berlin. As the Berlin stock exchange was not organised as a private club but rather as a semi-public establishment, we should refer to its visitors as «users» or «customers» rather than «members». Within this group of users we can observe the first fundamental conflict of interest between the users who were members of the merchants' corporation and those who were not. In addition, a second clash of interests occurred between the members of the corporation itself because only a fraction of them were also engaged in stock exchange business. Of course, members of the corporation who did not use the exchange did not want to pay for it but initially, the exchange was only financed by the contributions of the merchants' corporation. An important change occurred in 1866 when a fundamentally revised version of the rules and regulations of the Berlin stock exchange came into force.[38] From then on, all visitors to the exchange, whether members or not, were discharged the same fees. While this regulation mitigated the conflict within the corporation, at least temporarily, it aggravated the conflict between users of the stock exchange who were members of the corporation and those who were not. Now, non-members using the exchange had to pay the same price but did not have any voting rights, since the supervisory committee of the stock exchange could only be elected by members of the corporation up until 1903. Moreover, until another revised version of the rules and regulations for the Berlin stock exchange came into force in 1885, all members' of the merchants' corporation – including those who did not use the exchange – were formally allowed to elect the members of the so called «committee of experts» (Sachverständigenkommission), which, as a court of arbitration, resolved smaller technical disputes between participants that occurred in daily trading and which was an important part of the supervisory structure of the Berlin Bourse. The new regulations limited the right to vote to those members of the corporation who also were actively engaged in securities trading. Non-members who visited the stock exchange in Berlin, however, continued to not have any voting rights.[39] It was only with the foundation of the chamber of commerce that all the users of the Berlin Bourse received a common representative body.

When we look at the numbers of visitors to the Berlin stock exchange in more detail, we can observe a dual development (see Figure 2).[40] On the one hand, an increasing number of members of the corporation did not use the stock exchange at all. On the other hand, we can observe that non-members increasingly became users of the exchange. In particular, the overall rise in visitors to the exchange throughout the 70s and 80s was mainly caused by more and more merchants coming to the exchange without being a member of the corporation. This in turn, means that both conflicts of interest described above were aggravating over time. The renewed convergence of members and non-members buying entrance tickets to the stock exchange since the mid-80s is somewhat misleading in this respect because it is mainly due to the above mentioned change in the rules and regulations. The committee of elders had raised the entrance fees for clerks of non-members significantly, whereas members of the corporation only paid a lump sum for their firm regardless of how many clerks and directors frequented the exchange.[41] Obviously, this created an incentive to join the corporation, which, indeed, seems to have happened. In addition, new users applying for an entrance ticket now needed the recommendations of three existing members of the corporation.[42] In sum, this change of regulations is characteristic for the attempts made by the committee of elders of the corporation to make all users of the stock exchange also members of the corporation as this traditionally had been the case in Berlin. Instead, the committee hesitated to grant any rights to non-members.

Furthermore, taking a closer look on the composition of stock exchange users in Berlin, we see not only members and non-members of the corporation opposing each other but also different professional groups increasingly getting in conflict. Due to the openness of the Berlin Bourse, commercial banks had access to its facilities and could directly carry out their business there. They did not have to delegate their clients' orders to another agent like in London, where only brokers were allowed to trade on behalf of outside clients. Instead, banks constituted the most important players in the Berlin stock market, not only channelling their customers' orders into the market but also carrying out dealings on their own behalf. In addition, the issuing of new securities was regularly provided by Berlin's large universal banks.[43] The fact that banks could trade directly in the stock exchange is arguably the most outstanding difference of the Berlin Bourse compared to the LSE. Towards the end of the 19th century, however, complaints about the big commercial banks increasingly monopolising securities trading in their hands were growing rapidly. As a consequence, smaller banks and brokers founded their own interest group: the «association for the interests of the stock exchange» (Verein für die Interessen der Fondsbörse).[44] The bigger banks, instead, gathered in their own interest group, the so called Stempelvereinigung.[45] However, on the other hand, visitors to the stock exchange in Berlin paid different entrance fees according to their potential «interest» in the stock market, i. e. the importance of their overall business. There were several scales of fees and the biggest banks were regularly paying the highest prices. This means that a small number of users paid by far the largest share in entrance fees and, consequently, these users claimed a corresponding stake in running the affairs of the stock exchange. Similarly, seats in the supervisory committee of the Berlin Bourse were primarily taken by the big banks. Thus, not only all the joint-stock universal banks but also the most influential private banks had their representatives chairing there. In addition, the governing board of Berlin's central clearing facility, the so called Kassen-Verein, was almost exclusively run by members of Berlin's haute finance.

Figure 2:

Visitors to the Berlin Bourse, 1860 to 1913.

Source: Biggeleben, Das «Bollwerk des Bürgertums» (cf. n. 14); Korporation der Kaufmannschaft von Berlin. Festschrift (cf. n. 31); Börsen-Enquete-Kommission. Statistische Anlagen, Berlin 1893; Bericht über Handel und Industrie von Berlin, 1892–1902; Berliner Jahrbuch für Handel und Industrie, 1903–1913; Correspondenz der Aeltesten der Kaufmannschaft von Berlin, 1878–1913; Landesarchiv Berlin, A Rep. 200–01 Korporation der Kaufmannschaft von Berlin, n° 433, 601, 948, 1002, 1158, 1218.

As mentioned above, conflicting interests among Berlin's commercial elite also accounted for the foundation of a new representative body, the chamber of commerce, in 1902. Indeed, a fierce dispute broke out among Berlin's merchants at the turn of the century. From the outside, it looked as if this dispute concentrated on the issue of how to design the newly established chamber of commerce, but for the more careful observer it soon became clear that it was the interests of Berlin's stock exchange elite which were at stake.[46] Thus, at the heart of the whole bargaining process was the question of how to adequately distribute voting rights for the governing boards of the Berlin Bourse.[47] When the Prussian Minister of Commerce and Trade finally opted for the creation of a new chamber of commerce in Berlin, the question of how to organise voting rights within this new institution arose. As the chamber of commerce was founded as an obligatory corporation for all firms engaged in industry and commerce, Berlin's large banks feared to lose their influential position if a general voting right with one vote per firm was introduced. Of course, this latter proposition was primarily supported by smaller firms. Until then, however, voting rights within the merchants' corporation had been distributed according to the members of a firm, which guaranteed that the biggest firms, mainly banks, enjoyed a majority. At first, the Stempelvereinigung supported the traditional merchant's corporation. But when it became clear that State authorities were willing to transfer the task of supervising the securities market to the chamber of commerce, Berlin's large banks changed their mind. At this point, they were trying to adjust voting rights accordingly in order to safeguard their position. Finally, they were successful in that a three-class franchise system was introduced in the chamber of commerce. As a consequence, it was again the financial elites and their respective interests which dominated this new organisation.

Furthermore, another conflict of interest prevailed within the Berlin Bourse between a limited number of sworn brokers on the one hand and an ever increasing number of free brokers on the other.[48] The former existed since the very beginnings of the Berlin stock exchange and were supposed to only bring buyer and seller together, earning commissions for this service. They were not allowed, instead, to trade on their own account. This, in turn, was exactly what was done by free brokers, who could therefore take over their clients' orders without having yet a suitable counterparty at hand. What is more, these free brokers could trade in whatever securities they liked, whereas sworn brokers could only trade in a very restricted number of securities. For these securities, which were allocated to them by the supervisory body, sworn brokers were in charge of the official price formulation. As free brokers could thus trade more freely, without the obligations that their sworn counterparts faced, the latter complained increasingly about undue competition.

All in all, visitors to the Berlin stock exchange formed a much more heterogeneous group than members of the LSE. Yet, what clearly distinguishes the Berlin situation from its London counterpart is the confrontation of different parties within the exchange, whose interests ran at odds with each other. At the turn of the century, however, it had become obvious that the merchants' corporation could no longer claim to comprehend and represent the interests of all participants in the Berlin stock market. Moreover, we can even conclude that deep-rooted conflicts of interests among Berlin's commercial and financial elite constituted the crucial driving force behind the constitutional change that occurred in the overall organisational structure of the Berlin Bourse at that time.

Competition vs. monopoly power

Apart from membership structure, having a look on the second explanatory variable in the Hart and Moore model, namely outside competition, can also help to make sense of London's and Berlin's diverging paths throughout the 19th century. Although the LSE was organised as a private club, its membership policy was not very restrictive. Indeed, only a very tiny fraction of applicants for membership were denied access to the floor.[49] Since the LSE did not enjoy a legal monopoly, there was always the threat of competing exchanges emerging if it ran too strict an access policy. Actually, in the beginning, there was still considerable trading taking place in the coffee houses surrounding Capel Court and particularly in the Rotunda of the Bank of England, where bargains in British Consols had to be registered anyway.[50] Nevertheless, the relevant literature does not leave any doubt about the fact that very soon afterwards the LSE attained a de facto monopoly in securities trading. Throughout the second half of the century, for example, at least four different stock exchanges were founded in London which dealt exclusively in mining shares. None of these, however, became a serious competitor to the LSE and all of them vanished after a short period.[51]

Again, the Berlin case shows a rather contrary picture. Though the Berlin Bourse possessed a legal monopoly since the early 19th century,[52] its competitive environment clearly began to intensify towards the end of the century. However, it was not rival exchanges which threatened its monopoly position; instead, the big commercial banks seem to have been increasingly bypassing the official stock market. Unfortunately, there are no contemporary statistics whatsoever on this phenomenon. Nevertheless, several indicators suggest that the circumvention of the official market became more and more of a problem in Berlin. Whereas official data on overall stock market turnover have never been gathered before 1914, Christoph Wetzel, in his study, tried to approximate turnover by drawing on stamp tax income. Since tax rates are well known and earnings by stamp tax have regularly been published, one can calculate the «hypothetical turnover» which is shown in Figure 3. Wetzel's data reveal a slightly decreasing trend of stock market turnover in Berlin over the course of the German Empire. At the same time, however, the statistics of Berlin's central clearing facility, the so called Berliner Kassen-Verein, show a continuous increasing trend. How do these opposite developments fit together? We suggest that estimating turnover based on stamp tax data mainly includes transactions carried out within the stock exchange, i. e. on the «official» market, but neglects business being done outside. Instead, clearing data (Inkasso-Verkehr) measures all bargains that have actually been settled, regardless of whether these bargains had been entered within the stock exchange or not.[53] Thus, taken together, both phenomena suggest that an increasing part of trading activity was taking place outside the stock exchange. This suggestion is fostered by a stagnating number of visitors to the stock exchange (see Figure 2).[54]

Figure 3:

«Inkasso-Verkehr» and «turnover» on the Berlin stock exchange, 1885 to 1913

(in mio.Mark).

Source: Christoph Wetzel, Die Auswirkungen des Reichsbörsengesetzes von 1896 auf die Effektenbörsen im Deutschen Reich, insbesondere auf die Berliner Fondsbörse, Münster 1996; Berichte der Bank des Berliner Kassen-Vereins, 1860–1914.

Furthermore, a vast amount of anecdotal evidence, stemming from very different sources, refers to the fact that an ever greater part of securities trading was carried out within the big universal banks. The annual reports of the State commissioner at the Berlin Bourse are very telling examples of this. This official representative of public authority on the Berlin securities market, introduced by the Stock Exchange Act of 1896, rendered a very detailed account of his observations each year to the Prussian Ministry of Commerce. In almost every report, the State commissioner refers to the ever increasing concentration of securities trading within the big universal banks and regularly characterises these banks as «a sort of stock exchange» or «stock exchange in itself».[55] This idea of banks providing their own inside stock market, thus turning into little stock exchanges, became a powerful metaphor in the early 20th century and can be found in numerous contemporary accounts of the Berlin securities market.[56] But, what is still more, bankers and stock exchange businessmen themselves largely acknowledged the fact that the largest banking institutes were able to match a part of their customers' buy and sell orders within their own enterprises.[57] When this issue was discussed in an official enquiry commission that was put into place in order to prepare the Stock Exchange Act of 1896, Emil Russel, one of the owner-managers of the Diskonto-Gesellschaft, even came up with a numerical estimate according to which five to ten per cent of all orders were regulated in that way.[58] In the following discussions, this number was cited several times, some experts regarding it as too low and others as too high. However, the very fact that banks bypassed the stock exchange was rarely questioned. Thus, even if we cannot measure the exact extent of this phenomenon, there can be no doubt that contemporary observers considered it becoming an ever greater problem.

In sum, not only did membership become more heterogeneous in Berlin, but the stock exchange also had to face much stronger competition towards the end of the long 19th century. But, contrary to the TaM of the LSE who made every effort to monopolise securities trading, the supervisory board of the Berlin Bourse, in which Berlin's biggest banks played an important role, was unwilling to stop bypassing the official stock market. All in all, both central predictions derived from Hart and Moore's model fit the empirical data on the evolution of property rights in the London and Berlin stock exchanges astonishingly well. Whereas a homogeneous membership and less competitive pressure in London pointed to overcome the traditional separation of ownership and membership, the opposite held true for Berlin.

Property rights in prices

Even though a very simple and intuitive model like the one discussed above might explain a large part of 19th century stock exchange history, the distribution of property rights in historical stock exchanges is still a much more complex issue. Mainly as an outlook for future research, this will now be illustrated by shedding some light on practices of price quotation and distribution in Berlin and London.

If one takes the view that stock exchanges are firms, then the question which immediately arises is: what is the actual «product» of that firm? It was argued that, historically, financial exchanges have been creating property rights in prices for its members. Therefore, prices which had been formulated within an exchange belonged to this exchange, i. e. to its members, who in turn could exclude outsiders from using and distributing this information. This theory was first developed by drawing exclusively on the experience of US-American exchanges.[59] There, the very question of whom stock prices actually belonged to only emerged when the so called «stock ticker» or «ticker tape» was introduced to many exchanges in the 1860s. This machine, based on the telegraph, allowed for transmitting prices almost in real-time from the trading floor to any subscriber of a telegraph company which provided that particular information service. But, what constituted a very helpful device for traders on the floor who wanted to communicate with their offices outside the exchange building could also be used by so called «bucket shops».[60] In these dubious establishments, people could, with a very limited amount of money, simply bet on the movement of stock prices which were received via the «ticker». In their efforts to fight these bucket shops, as well as rival exchanges, US-American exchanges brought a number of cases to court which finally decided that prices were the property of the exchange in which they had been created.

The LSE clearly followed the example of US-American exchanges. When some brokers tried to introduce the ticker to the floor in the late 60s, the TaM rejected the proposal, bluntly stating that «they had no guarantee but that prices might be wired to other places than the offices of brokers, and might tend to the formation of markets elsewhere».[61] Soon after this refusal, however, another attempt to introduce the ticker was made by the Exchange Telegraph Company (ETC) which was founded for that purpose at the beginning of the 1870s. After some discussions, the company was finally granted exclusive access to the floor in late 1872. Problems arose in the 1880s, when the CGP found out that subscribers to the ETC had passed on price information to third parties which should have been prohibited in the treaties of the company. The CGP thus forced the ETC to exclude outside brokers from its information services and, consequently, a series of disputes resulted. In a very prominent case between the ETC and the outside broker George Gregory, the judge also clarified the relationship between the company and the LSE, saying: «Now it is perfectly clear to my mind that the Committee of the Stock Exchange would be justified and would be entitled to prevent anybody except members of the House from obtaining any information as to the transactions that were going on during the day».[62] And in the ensuing appeal proceedings, the judge was even more explicit: «Now the information is a thing that can be sold. It is property, and, being sold to the Plaintiffs, it was their property.»[63] Thus, like in the US, the courts clearly recognised the LSE's right to establish property rights in stock prices.[64]

Once again, the comparison to the Berlin experience is very revealing, because there is no evidence that similar discussions ever took place there. On the contrary, financial journalists could easily enter the bourse and, as available statistics on visitors show, there were always a significant number of them among regular visitors.[65] In fact, Germany's most important news agency, Wolffs Telegraphisches Büro, had its own office within the stock exchange building. And later, the introduction of the telephone seems to have worked out so smoothly that it hardly left any traces in archives. What is even more, it seems that some banks later on possessed private wires to the stock exchange building which obviously never posed a problem to the supervisory body of the Berlin Bourse.[66] This, in turn, is not surprising given the fact that all the large banks were represented there and that private wires to the trading floor made bypassing the official market, as described above, much easier for them.[67] After all, due to the general openness of the Berlin stock exchange, any attempt to prevent price dissemination would have remained ineffective.

The obvious conclusion is that stock prices were regarded as a private good in London while they were considered a public good in Berlin.[68] This interpretation is further strengthened by German Civil Law, which assigned a public role to stock exchanges. Prices formulated on an exchange, for example, often were also used as substitutes in bargains which did not refer to stock exchange transactions as such, but where contracting parties had failed to agree on a common price.[69] Therefore, German law put great emphasis on the fact that price quotations were «official», i. e. their proper and exact formulation being guaranteed by supervisory authorities. Correspondingly, the rules and regulations of the Berlin Bourse provided a two-stage procedure which should guarantee the official character of price registration. Firstly, the committee of elders continued to appoint so called «sworn brokers» who were in charge of price formulation for all securities listed. Even long after the traditional brokering monopoly had been abolished, the official appointment of particular intermediaries, and all the corresponding duties that went hand in hand with that, was considered to be necessary in order to ensure objectivity in price registration. Secondly, prices formulated by these sworn brokers had to be approved by the supervisory body at the end of the trading hours.[70] In this way, the supervisory body claimed to provide some sort of «official control» that prices published in the official price list were correct. Of course, in daily practice it was impossible for the supervisory authorities to deliver a detailed proof of all the prices registered each day. Nevertheless, the attempts made to give stock prices a public character are very telling for the self-image of the Berlin Bourse as a public marketplace. This is all the more true as the policies of the LSE do not show any similar concerns about official price registration.[71]

Moreover, the very functioning of the Berlin Bourse demanded for an official registration of prices. According to article 376 of the German Commercial Code of 1861, the commission agent who had to buy goods or securities for his principal, i. e. the private client, from a third party, was allowed to sell the desired objects out of his own holdings, thus directly becoming a seller to his client.[72] This right of the agent to «step in» and make himself buyer or seller was called the right of «own-name transaction». As the commission business in the German financial system was mainly carried out by banks which, at the same time, were often also important holders of securities due to their role in issuing shares, the possibility of own-name transactions was a substantial privilege for banks. In Berlin, where the most influential banks operated on the stock exchange, this right was all the more important. However, as the famous article 376 also made clear, this special right was strictly limited to those goods and securities for which there existed an official market price. This is the very reason why the formulation of official prices by so called sworn brokers was considered by most market participants as a conditio sine qua non for the functioning of the Berlin Bourse.

Therefore, property rights structures of stock exchanges obviously not only depended on membership structure and the degree of outside competition but also on whether an exchange was organised as private club or as a public marketplace. This becomes evident when asking whether stock exchanges created property rights in prices. This public-private dimension has rather been neglected by research on governance of stock exchanges so far as most of the literature narrowly focuses on the Anglo-Saxon experience. Future research should thus have a much closer look on the microstructures of Continental stock exchanges.[73]

Conclusion

This paper has tried to make a threefold contribution to research on the organisation and governance of stock exchanges. Firstly, taking the Berlin and London stock exchanges as case studies, it was argued that there was much more institutional variety with regard to the organisation of exchanges in the past than recent economic accounts tend to believe. But what is even more: there was also considerable evolution going on throughout the 19th century. Both Berlin and London stock exchanges witnessed very important changes in their overall constitutional structure during the latter part of the century. However, this led to both organisations following very different paths of development.

Secondly, in order to make sense of these diverging paths taken by Berlin and London respectively, we relied on an economic model that was designed to explain property rights structures in stock exchanges. While the model was originally developed to analyse the process of demutualisation taking place in late 20th century, it turned out to also provide a very convenient narrative for stock exchange history in the 19th century. Thus, our empirical analysis has clearly shown that diverse membership and ownership structures were the key driving forces behind organisational change, both in London as well as in Berlin. Indeed, both the final separation of the Berlin stock exchange's financial administration from its commercial use as well as London's move towards closer vertical integration can be interpreted as efficient institutional responses to very different membership structures. Whereas members of the London Stock Exchange remained a more or less homogenous group, users of the Berlin exchange became increasingly heterogeneous. In addition, there is also some evidence that the Berlin stock exchange had to face ever more increasing competition since the end of the 19th century. Although the Berlin Bourse possessed a legal monopoly, contemporaries continuously complained that the stock exchange was heavily bypassed by the big commercial banks, which simply matched buy and sell orders within their own stock departments. This observation thus also fits Hart and Moore's model.

Thirdly, and mostly as an outlook for future research, the paper has also shown that the literature on stock exchanges so far has neglected an important feature of an exchange's overall structure, namely its public or private dimension. The importance of this dimension has become evident when focusing on the question of whether stock exchanges establish property rights in prices. Interpreting stock exchanges as «firms» has led some researchers to believe that prices were the private property of financial exchanges. This, however, is an undue generalisation of the Anglo-Saxon experience, which cannot be supported by the history of Continental bourses.

Acknowledgement:

This article is the written form of my presentation at the Annual Congress of the European Business History Association in Bergen in August 2016. Participation in this conference was generously funded by the Gesellschaft für Unternehmensgeschichte e. V. A shorter version of this paper was also presented at the Annual Conference of the Economic History Society in Cambridge in April 2016. Its main conclusions result from my dissertation entitled «Die Spielregeln der Börse. Institutionen, Kultur und die Grundlagen des Wertpapierhandels in Berlin und London, ca. 1860–1914» and presented to the University of Heidelberg in February 2017. I like to thank my supervisors, Katja Patzel-Mattern and Mark Spoerer, as well as participants in the above mentioned conferences and in research seminars in Heidelberg and Regensburg for many valuable comments. Tobias Jopp provided very helpful remarks on a first version of this paper. In addition, comments of two anonymous referees helped to improve the general line of argument. Of course, any remaining errors are mine.

Online erschienen: 2017-9-4

© 2017 Walter de Gruyter GmbH, Berlin/Boston

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